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Retail Nondeposit Investment Sales
Introduction

Section 413.1 disclosures.

ability to absorb or recover losses. A

nondoposit investment salesperson should Suitability

also be aware that it is especially important Consistent with the Rules of Fair Practice, to make a caratul suitability recommendathe occ expects banks to determine

tion when dealing with a surviving spouse whether a product being recommended is who is not experienced in investment an appropriate investment for the custom- matters. or. Banks should ensure that any salespoople involved in bank-related sales obtain Examiners should investigate potential sutficient information from customers to suitability problems in mutual fund sales enable the salesperson to make a judgment when reviewing 'breakpoints" and "letters about the suitability of recommendations of intent. Breakpoints are discounts that for particular customers. At a minimum, are available to investors who purchase a suitability inquiries should be made consist. large amount of mutual fund shares in a ent with the Rules of Fair Practice con- lump sum or as part of a cumulative invest. cerning the customer's financial and tax ment program (0.9. under a letter of instatus, investment objectives, and other tent"). the potential for abuse usually factors that may be relevant, prior to mak. occurs when the sale of soveral different ing recommendations to the customer.

mutual fund shares takes place in quantiThis information should be documented ties just below the level at which the pur. and updated periodically.

chaser would quality for reduced sales

charges on any one of the funds. A well-documented suitability inquiry can protect a bank from dissatisfied customers

Examiners should determine whether a who throaten litigation. Such litigation bank officer has been assigned responsibilicould introduce risk to the bank's capital. ty for implementing and/or monitoring the Accordingly, the OCC may view banks suitability system. The examination apoperating a rotail securities business with- proach should focus on the system the out appropriato suitability procedures to be

bank has in place to make suitability inquirengaging in an unsate and unsound prac- ies, suitability judgemonts, and periodic tice.

account reviews. Examiners generally

should rovi@w sales patterns rather than Many banks use software programs that individual sales for suitability issues. To document investor profiles to assist in determine the types of sales to test for making suitability judgments. Each profilo suitability, examinars should investigate is based on a customer's responses to marketing programs that target a class of inquiries as to his or her financial and rolo- customers, customer complaints, sales to vant personal history. The software pro- first-time and risk-everso investors, sales gram subsequently matches the customer's made by high or low-volume salespersons, investment noods and objectives to the

volatile and new products, and the existbank's availabio products. This type of ence of mutual fund redemptions after software is a tool, not a substitute for relatively short holding periods. professional judgemont; it should not weight bank propriotary products too heavi- Qualifications and Training ly or bank deposits too lightly.

Banks should implement detailed training

programs to ensure that sales personnel One example of a critical suitability dotar. have thorough product knowledge (as mination involves sales to elderly bank opposed to simple sales training for a customers. Many of those customors rely product) and understand customer protecupon investments or savings for retirement tion requirements. Examiners should asincome and may consequently demand high soss the process the bank uses to ensure yields. They may not, however, have the that sales personnel are properly qualified

Comptroller's Handbook for National Band Examiner
Temporary Insert – February 1994

Retail Nondeposit Investment Sales Introduction

Section 413.1

and adequately trained to sell all bank. related nondeposit investment products. If bank personnel sell or recommend securities, the training should be substantively equivalent to that required for personnel qualified to sell securities as registered representatives. Securities industry training is available in most metropolitan areas. Examiners also should determine that the bank's audit and compliance personnel and persons with supervisory responsibilities are properly trained and knowledgeable. A bank's hiring practices and training plan should be designed around the complexity and risks of the particular investment products being offered. While it may be appropriate to have a banking generalist with no securities industry background soll monoy market mutual funds, it could be inappropriate to allow this individual to sell fixedrate annuities without extensive training. If individuals with securitios industry oxpenence are hired to soll investment products for banks, they should have an understanding of securities industry customer protec. tion and control systems and have an adequate knowledge of the products boing ottered. Since thoy may not be familiar with general banking regulations and may not understand the needs of bank customers, banks should also ensure that those individuals are instructed as to the specialized obligations of selling investment prod. ucts in a retail banking environment. Examiners should expect management to check with securities regulators to dotor. mine if potential bank sales employees with previous securities industry experienco have a disciplinary history. Banks engaging in lower volume mutual fund and annuity sales froquently train existing bank employees to soll investment products. Examiners should determine that bank management is satisfied that these individuals have acquired 'product knowl odge," and thoroughly understand the need to sateguard the customers' interests. More specialized 'product knowledge" training is generally provided by tho mar.

koting division of a mutual fund sponsor or another third party vendor. Bank statt should also receive customer protection and compliance training. Examiners should determine whether bank officer has been assigned responsibility for ensuring that adequato training is provided to bank statt, and for reviewing the hiring and training practices of a third party vendor. Compensation Incentive componsation systems, which are standard in the securities and insurance businesses, are becoming increasingly common in commercial banking. Personnel who are authorized to sell nondeposit investment products may receive incontive compensation, such as commissions, for transactions entored into by customers. However, incentive compensation programs must not be structured in such a way as to rosuh in unsuitablo recommendations or sales being made to customers. An improperly designed componsation system can provide a bank employee with the incentivo to place his or her own componsation intorests above the interests of bank customers. Examiners should assess the stops management has taken to ensure that compensation programs do not opor. ato as an incontivo for salespoople to make unsuitable rocommendations or sales to customors. One way to avoid having the compensation systom drive the recommendation toward mutual funds and away from certificate of doposit ronowals would be to separate the nondoposit investment product salos and CD renowal functions. Alternatively, if employees are permitted to offer both deposits and nondeposit investment prod. ucts, a bank could reduce tho temptation by compensating the employee for ronewing maturing deposits as well as for selling nondoposit investment products. Examinors should discuss with bank management whore appropriate the methods used to avoid possible conflicts of interest poton

Comptroller's Handbook for National Bank Examiners Tempory Insert - February 1994

Retail Nondeposit Investment Sales Introduction

Section 413.1

bank management should not rely on third party audit and control systems if that vendor's control personnel receive transaction-based incentivo compensation. Bank employees, including tellers, may receive a one-timo nominal toe of a fixed dollar amount for each customer reterred for nondoposit investment products. The payment of this referral fee should not depend on whether the referral results in a transaction.

tially arising from the bank's compensation plan. To investigate whether incentivo componsation schemes could induce salasporsons to recommend products with higher commissions over a more suitable option, oxaminers should look to customer complaints and to salos patterns rather than to individual sales. For example, an examiner can look for instances in which sales for a particular product increased after changes to an incentive compensation system. Examiners also should expect a bank to increase its supervision of sales programs as it increases its incentivo componsation. Examiners should be critical of supervision that does not take into account the possibility that recommendations for purchases of nondoposit investment products could be influenced by the incontivo compensation scheme. If the overall setting and circumstances of a bank's investment salos program appears to be only marginally satisfactory, examinors should rogard higher incentivo componsation on certain investment products and lower compensation on deposits and other investment products as having the potontial for causing serious problems. In this case tho compensation system itself should justity an increase in the level of bank management supervision. If supervision is not adequate, the examiner should criticize the compensation system and other objec. tionable factors in the setting and circumstance of the salo.

Fiduciary Accounts Pursuant to 12 CFR 9.11(d), examiners will review the investments held by national banks as fiduciary to determine whether such investments are in accordance with law, 12 CFR 9, and sound fiduciary principles. In so doing, they will ensure that the bank has complied with all applicable state and federal restrictions on investment transactions involving the bank's fiduciary accounts. Under 12 CFR 9.12, national bank fiduciarios may not invest funds held as fiduciary in the stock of organizations with which there exists such connection as may attect the exercise of the best judgment of the bank in acquiring the stock, unless thoro oxists specific authority for such an investment in the governing instrument, local law, I court order or through consents from all beneficiaries. As to accounts subject to the Employee Retirement Income Socurity Act of 1974, such investmonts must be within the authority of that Act. Those principles govern purchases of

bank's propriotary products, such as bank-advised mutual funds and private label mutual funds for fiduciary accounts. In addition, pursuant to 12 CFR 9.11(d). examinors will determine that fiduciary purchases and retention of bank proprietary products for fiduciary accounts are in accord with sound fiduciary principles. This requires that even if specific authority exists for fiduciary accounts to purchase or retain bank-advised or bank private label mutual funds, the assets must be appropri

Bank supervisory employees who review and approve individual salos, accept now accounts, and roviow established customer accounts should not receive incontive compensation based on the profitability of individual trados or accounts that are subject to their review. Similarly, departmont auditors or compliance personnel should not participate in incontive compensation programs that are based directly on the success of sales afforts nor should they report to a manager who recoives this type of incontivo compensation. In addition,

Comptroller's Handbook for National Bank Examiners Temporary Insert - February 1994

10

Retail Nondeposit Investment Sales Introduction

Section 413.1

tom to monitor customer complaints and to review customer accounts periodically to detect and prevent abusivo practices. Examiners reviewing the compliance operations of a bank offering a variety of retail investment products should ensure that the bank has comprehensivo solf-regulatory policies and that it is conducting an ongoing comparison of the bank's investment sales practices with its stated investment policy. In banks with a loss elaborate investment sales program, where an internal auditing group may perform all of the bank's compliance functions, the examiner should ensure that these auditors are periodically comparing sales practices with policy.

ate for each account. The investment must be consistent with the purpose for which each account was created, and suitable for the beneficial interest holders of each account. This requirement exists as to purchases for individual accounts, and for conversions of collectivo invest. ment funds to bank-advised mutual funds. Twelve CFA 9.7 requires banks to conduct initial and annual reviews of each fiduciary account as well as a separate review of all securities by issuer to ensure compliance with these requirements. These reviews include: • A documented review of each ac

count to determine that the assets of that account, including any propriotary products, moet the investment objectives of the account. In structuring the account portfolio, the fiduciary must consider the provisions of the document establishing the account. The review must also take into account the noods of the beneficial interest holders. This roview should address the issues sot forth in the Comptroller's Handbook for Fiduciary Activities, "Porttolio

Management." • A documented annual review of all

assots by issuer, including proprietary products. This reviow should consider the quality of tund management, too structure, risk diversification and anticipatod ratos of return. It should also address the considerations set forth in tho Comptroller's Handbook for Fiduciary Activitios, "Investments."

Individuals performing the audit or compliance of the bank's investment program should be qualitiod and should have the necessary experience to perform the as. signed tasks. Compliance personnel should also ongage in ongoing training to keep abroast of emerging developments in bank. ing and securities laws and regulations. Banks can establish indopondence of audit or compliance porsonnal it such personnel dotermino the scopo, frequency, and depth of their own roviows; report their findings directly to the board of directors or an appropriate committee of the board; have their portormance evaluated by persons independent of the investment product salos function; and rocoivo compensation that is not connected to the success of investment product sales.

Compliance Program Banks must maintain complianco programs capable of veritying compliance with the guidelines specified in the Interagency Statement and with any other applicable requirements. Banks should portorm nondeposit invostmont compliance programs independently of investment product sales and management. At a minimum, the compliance function should include a sys

Bank compliance programs should be mod. bled after those in the securities business where it is customary for compliance por. sonnel to conduct regular and frequent customer account reviows in order to detect and prevent abuses. The extent and frequency of customer account supervision should be dictated by the aggrossiveness of the sales program and the riskiness of products boing otterod.

Examiners should expect the bank to as. sign individuals independent of the sales

Comptroller's Handbook for National Bank Examiners Temporary Insert – February 1994

11

Retail Nondeposit Investment Sales
Introduction

Section 413.1 force to review periodically customer ro- If early redemptions are restricted to one sponses to suitability inquiries and to com- salesperson or one branch, management pare these responses to the type and vol- can reasonably conclude that the problem ume of account activity to determine is localized. However, early redemptions whether the activity in an account is appro- occurring throughout the sales network priate. If account activity is unusual rela- may indicate that something is wrong with tive to the customer's stated objectives the product itself or with the training proand risk tolerance, or if account activity is vided to salespeople. Similarly, if reports brisk relative to the size of a customer's indicate that salesperson is selling one investment or past practices, management type of product almost exclusively, mar should make follow-up inquiries to deter. agement may need to review that mine if the activity serves the best inter- individual's performance or training. ests of the customer.

Ultimately, the way for bank management If examinations or routine oversight by to assure itself that the securities salesper. bank management indicates that suitability sons are providing the required disclosures problems may exist, bank management is and making suitable recommendations to expected to conduct its own reviow of all customers is to test the sales program. affected accounts and to institute correc. Ettective "tests can be conducted in tive actions. If it is determined that cus. several ways. Largor banks sometimes tomers may have been disadvantaged, employ "testers who pose as prospective corrective actions should be designed on a customers and test the sales presentations case-by-case basis and may include full for a variety of issues including adherence explanations to customers and, where to customer protection standards. Many appropriato, otters to rescind trades.

other well-managed banks (of all sizes)

have instituted follow-up programs to Customer complaints are an indication of verity that their customers understood their potential problems that warrant a prompt investment transactions. A bank manager, account review. Examiners should expect who is independent of the sales force, may the bank to assign a bank otticor who is telephone customers a few days after an independent of the sales force the respon- investment account is opened or an unususibility for approving the resolution of al transaction has taken place. The managcomplaints or reviewing the rosolution of or will determine if the customer undercomplaints by a third party vondor. The stands what he or she has purchased; examiner should evaluate the system for understands the risks, including the uninassuring that all complaints (written and sured nature of the product; understands oral) receive managemont's attention by the bank's

role in the transaction; and can roviowing the bank's audit of the complaint generally confirm responses to a suitability resolution system.

inquiry proviously provided. Managers of high-volume investment sales A bank officer usually can determine if a programs also ofron use automated excep- customer understands an investment by tion reporting systems to flag potential asking the customer to describe its general problems before customers complain. features. The customer should be able to Such systems monitor product sales and describe how the product works and its the performance of salespersons. If the risks rather than simply recite what he or bank has such systems in place, and if the she hopes to gain from the particular inrepons show significant volumes of mutual vestment Managers usually also deter. fund redemptions after short holding peri- mine if the customer is satisfied with the ods, examiners should review the stops product and service or has any problems or management has taken to investigate suggestions for improving sorvice. If a whether the product is boing sold properly. bank institutes a telephono follow-up pro

gram, it should maintain a record of con

Comptroller's Handbook for National Bank Examiners
Temporary Insert - February 1994

12

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